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Bilateral development finance is basically just commercial EM investment


 

By Adrian Fielding, TES Contributor

 

In a job interview in 2015 with a development finance institution (DFI) that will remain unnamed, my response to the question ‘what do you think we do here?’ went something like this: development finance institutions’ raison d’être is the de-risking of potentially highly-transformational projects or the financing of SMEs with high developmental prospects, be it thanks to employment creation, local goods production or other socio-economic factors. It turns out that I was wrong; most DFIs are as profit-driven as any other private investor, meaning that they are in direct competition with private investors for the small number of bankable, mature projects, often in the most developed of emerging markets.

 

European bilateral DFIs like DEG, CDC, FMO and Proparco have a dual objective: induce development and generate returns, without crowding out private investors. They have in the past decade excelled at their second aim, leveraging their bilateral relations and raking in handsome profits. Development impact is difficult to measure, but a quick glance at theses DFIs’ investees shows that the lion’s share of investments in Africa (in some cases over 92%) are made through mainstream emerging market (EM) investment funds. These funds, managed by the likes of Abraaj, Investec or Vantage, are mandated to generate commercial returns and are by definition commercial. If DFIs are investing alongside commercial investors in mainstream EM funds, then their placements are crowding out private investors and they are not de-risking projects or companies currently deemed too risky for private capital.

 

Unlike private investors, most DFIs rightly have a somewhat higher bar for compliance, with rigorous due diligence measures in place, due mainly to the fact that their source of funds is taxpayer dollars. In spite of this, the investees selected either by the DFIs (or most often EM fund managers) are worth revisiting.

 

As a former due diligence professional, I can attest to the colourful characters behind companies short-listed as beneficiaries of financing. To be clear, once flagged, the most problematic investees are usually not financed; however, of the vast number of SMEs requiring working capital across Africa, for instance, it is concerning how often the same problematic investee prospects make it through to the final compliance check. These characters, burdened with political or reputational baggage, seek the validation that comes with DFI investment, which in turn unlocks further capital. Some DFI representatives deem it impossible to avoid these types of players in EM investment. But I believe this is one case where the devil you know is worse than the devil you don’t. If your investee is renowned or even infamous, then they are not who a DFI should be investing in.

 

At this stage it is worth stating that DFIs undoubtedly have development impact through some of the constructive criteria that they apply, such as, inter alia, local management and ownership, employment potential and infrastructure development. All of these induce local growth creation but, in line with the above, perhaps a prospective investee’s need for financing should be given greater weight in the investment criteria.

 

It’s hardly controversial to say that an investee with relatively easy access to commercial or concessional finance should not benefit from DFI support. Instead, it’s precisely those projects or SMEs in highly under-developed countries who don’t have annual passes to the carousel of investment and development conferences that should benefit. The right SMEs are those that employ, serve or enfranchise the bottom of the social pyramid. They are easily identified with a bit of effort and may just generate similar if not better returns. Who knows?

 

Alas, realpolitik dictates that all development finance, like aid, has self-centred motives, so we cannot expect bilateral DFIs to altruistically redirect investment based solely on development potential, foregoing returns. However, perhaps the development and rising prosperity of Europe’s neighbourhood and sub-Saharan Africa could become the simultaneously laudable and self-centred end-goal in itself? The EU’s largest member states share the common goal of stemming migration in a humane fashion, and the European parliamentary elections in May will undoubtedly highlight this issue once again. Today, DFIs are doing a great job at generating returns, beating emerging market indices, and undoubtedly accomplishing one of their two bottom lines. The other, development, is falling by the wayside and private capital isn’t sufficiently empowered to step in itself. If development in its own right is to become the foreign policy objective of DFIs, then a reassessment of their modus operandi is necessary.

 

 

 


Adrian Fielding is a freelance business intelligence and public affairs consultant on sub-Saharan Africa.